Reform needed to escape stagnation

Emily Dabbs

By Kim Jae-kyoung

The best way to survive in the new world of stagnation is structural reform of the economy and shoring up competitiveness against Japan and China by focusing on high-end products and services, according to analysts.

Emily Dabbs, an economist at Moody’s Analytics, said that the missing ingredient to stronger sustainable growth in Korea is reform.

“Policies aimed at addressing slowing productivity growth, such as labor market reform, tend to face a public backlash and may have negative short-term impacts. However, without some form of reform, Korea’s economy will likely slow,” she said.

“The government’s policy to address the growing number of unprofitable businesses will help improve productivity and boost competitiveness,” Dabbs added.

She pointed out that while there may be some short-term pain as businesses that are unproductive close their doors, by focusing on areas of comparative advantage, Korea can improve its export competitiveness and boost economic growth.

“A number of Korean firms are already looking at how to differentiate themselves from cheaper rivals in China. Focusing on new technology, such as green cars in the automotive industry, will help distinguish Korean brands in competitive export markets.”

Korea is being sandwiched between Japan and China as its value proposition ― quality products at cheap prices ― does not work anymore due to the rise of Chinese players and the recovery of Japanese players.

“I believe Korea will likely grow at a slower pace than previous years as it struggles with softer global demand and increasing competition from rivals in China,” she added. “However, if the government can work with industry to bolster productivity, Korea may return to a stronger level of growth in the coming years.”

Paul Gruenwald, an Asia-Pacific chief economist at Standard & Poor’s (S&P), said that the Korean economy is facing two main headwinds.

“The first is the slowdown in global trade growth, which affects Korea more than many other countries given its openness and its reliance on net exports for growth,” he said.

“The second is the rebalancing of Chinese growth away from investment and towards consumption and services. China is Korea’s biggest trading partner and a large share of these exports have been capital and intermediate goods.”

Gruenwald said that the way out for Korea is to match China’s internal rebalancing with a rebalancing of its own export basket.

“This would involve a shift to more high-end consumer durables and services exports and require flexible markets and policies to support the transition of both labor and capital to the new growth sectors,” he said. “If this transition does not take place Korea will find itself concentrated in the wrong sectors.”

Stijn Van Nieuweburgh, an economics professor at New York University, also said that reform is a must for Korea to rejuvenate the economy.

“Ultimately, reforms that promote strong labor force participation ― among men and women, the young and the elderly ― and retooling of the unemployed; measures that unleash creative and competitive forces in the economy; are what are needed to rekindle and accelerate growth,” he said.

“Like Japan, Korea needs to keep moving up the value chain: high quality high-end products that are cutting edge at high prices. Stimulate education, stimulate entrepreneurship, change the culture to encourage more risk taking.”

Mauro Guillen, director of the Wharton School at the University of Pennsylvania, echoed the view saying, “Korea only has one way to go, which is to compete against China and Japan with more education, and more upgrading.

Van Nieuweburgh also said that Korea must get used to slower growth in China.

“China's growth slowdown is nothing unusual in the trajectory of a middle-income country. Korea also went through this. The main difference is the size of China. Korea and everyone else will have to adapt to a slower-growing China,” he said.

Experts also suggest that the Bank of Korea lower key interest rates that have been untouched for the last eight months at 1.5 percent.

“A lower interest rate would certainly alleviate the debt burden and help with Korean exports, especially in light of the low interest rates in Japan and Europe. It would invigorate the economy somewhat,” Van Nieuweburgh said.

Guillen said that rate cuts can be one option for Korea to give new vigor to the economy.

“Rate cuts will not hurt. And it will also depress the currency, which will help exports,” he said.